A process by which a company reduces the total number of shares outstanding while ensuring that the total market value of the company remains the same. For instance, in a 1-for-3 reverse split, a company with a share price of $2 and 12 million shares outstanding will end up with 4 million shares outstanding that are worth $6 each. The strategy is often used by companies with low stock prices that face being removed, or delisted, from major stock exchanges. Companies are subject to being delisted from the New York Stock Exchange (NYSE) or NASDAQ if they do not meet a minimum closing price (typically $1 per share), and their stock remains depressed for a certain period of time, often 30 consecutive days.
Because pension funds and other large investment firms are often restricted from purchasing stocks whose share price is below a certain level, such as $5, reverse stock splits may be used by companies to draw those types of investors. News that a company is planning a reverse stock split is usually not looked upon favorably by investors.